Tenuous Turnover

Research &
Forecast Report
CEE | Retail
Q2 2015
Tenuous Turnover
Implications of E-commerce Growth
FOREWORD
Content
With continuous improvements to accessible and affordable
technology, it is becoming increasingly easier to search and
purchase goods and services online. Consumers remain pricesensitive and are using multiple channels to source goods and
services. Globally, however, retailers are catching on. They are
changing their retail format/operating models to incorporate a
variety of fulfilment options to satisfy this demand, increasing the
selection of goods and services available online, often at lower
prices than in-store.
Foreword
Although online prices are lower, providing multiple ways that
goods can be received by the consumer, the share of European
retail sales which are conducted online is still low. According
to Ecommerce Europe, the figure was just 5.7% in 2013.
Omnichannel and multichannel initiatives and fulfilment options
including online orders, click-and-collect, click-and-drive and
dispensary outlets, are rising.
As a result, shopping centre owners/landlords are getting
concerned about turnover figures in-store and what it means to
their bottom line.
Retail lease agreements in CEE, particularly for anchor tenants,
are typically configured under an arrangement whereby the
retailer pays the higher of either a base rent, or a turnover rent
based on an agreed percentage of the store sales turnover. PostLehman’s, it is commonplace for anchor tenants to negotiate a
very low base rent, which is adjusted at the end of the year based
on turnover. As such, it is becoming an increasingly contentious
issue as to whether retail purchases made online through a
bricks-and-mortar store should be included in the calculation of
the gross turnover of that store and ultimately, the rent paid to
the landlord.
It seems logical that purchases completed online and delivered to
the customer without including the physical store in the supplychain should not be included.
1
What is a Turnover Rent?
2
Why Use a Turnover Rent? 2
Benefits and Challenges of Turnover Rents
3
Existing Business Model: Shopping Centre Revenue - Who Pays?
4
How is Online Retail Changing the Future of Turnover Rent Lease? 5
Conclusion
6
However, with the advent of multichannel and omnichannel
retailing, online purchases can now be made through a myriad
of retail channels. Examples include using a smartphone
application or technology kiosk while in-store with goods
subsequently delivered to the customer or collected in-store
at a later time. There’s also the option to use click-and-collect,
whereby the order is placed virtually online, not physically within
the store itself, but it is later collected physically from in-store.
Additionally, there are retailers that allow online purchases to be
returned in-store. What about goods that are advertisd online, but
acquired in-store?
The way we shop is changing the way a retailer generates
sales volume. Should sales made from other store channels
and not directly over the counter form part of the store’s gross
turnover, and thus the calculation of turnover rent to be paid
to the landlord? How are retailers and shopping centre owners
managing to navigate these increasingly muddy waters, and thus
calculate turnover rent to be paid?
What Is Turnover Rent?
Why Use Turnover Rent?
Base rent and turnover rent are components of a lease, which,
along with outgoings and other occupancy costs such as service
charges and marketing levies, are taken into consideration when
lease terms are negotiated.
One of the most popular notions for using turnover rent relates
to the idea of sharing both the risk and reward of operating a
retail business between the landlord and tenant in good times and
bad. In other words, the use of turnover rents creates a situation
of shared benefit to the landlord and tenant to operate under a
common objective, which is to maximise retail sales turnover.
Base rent is usually the minimum acceptable rental provided in
a lease. It refers to the commencing rent, excluding outgoings
and is typically indexed to inflation, annually. Turnover rent is a
provision within a lease, allowing the landlord to receive a form of
rental that is based wholly or partly on the sales turnover of the
tenant.
Turnover rent can be structured in several ways. For instance,
turnover rent can be calculated as a percentage of gross
receipts/sales/turnover in excess of a base rental level. Until the
set turnover level is achieved, the tenant pays only the base rent.
For instance, the tenant pays base rent of €200,000 per annum
plus 2.0% of sales achieved in excess of €3 million.
More commonly in CEE, however, turnover rent is calculated as
a set percentage of gross receipts/sales/turnover without any
minimum base rent. This is often termed a ‘pure turnover rent’
and is considered to be higher risk to the landlord.
Turnover rent is also a good way to attract smaller, in-line tenants
to a shopping centre mix – including short-term, pop-up, or new
start-up formats. Where a centre is currently being repositioned
through either refurbishment/redevelopment or simple marketing
efforts, turnover rents can be seen as an attractive option in
lease terms being negotiated. This would also work well when
managing existing tenants to extend their lease terms, particularly
to help avert tenant migration to a competing centre.
However, the growing multichannel environment is complicating
matters, creating a tenuous position for leases based on turnover
rents.
How should sales which started online but closed in-store be
accounted for?
How do you determine whether a sale is in any way reliant on, or
driven by, the online vs in-store component?
Most importantly, who benefits - the landlord or tenant?
Fig. 1: Base Rent vs. Turnover Rent
There is also the return-of-goods dilemma. It is now a common
occurrence for many retailers in today’s market to allow goods
that have been purchased online to be returned in-store for
refund or store credit. This has the potential to affect and even
lower turnover and therefore turnover rent.
Turnover
Turnover Rent
Base Rent
Rental Value/ Turnover
Retail Sales/ Turnover
Th e retail sales/turnover generated
by a store will likely fluctuate over
time in response to wider market
conditions and in light of the
performance of a specific shopping
centre and retailer.
Turnover Rent
Turnover Rent is derived from the
growth in retail sales, whereby a
rental value is based on a % of total
sales, over an agreed retail turnover
benchmark.
Base Rent
Th e ‘Base Rent’ is typically indexed to
CPI, thus increases over time, but
would be reviewed at the end of the
lease.
Lease Length/ Time
Source: Colliers International
2
CEE Research & Forecast Report | Q2 2015 | Retail | Colliers International
Main Benefits
of Using Turnover Rents:
Main Challenges
of Using Turnover Rents:
>> In a situation where demand for space has declined,
or market conditions are recessionary, offering
turnover rents could help the landlord to attract a
retailer, particularly in a hard-to-let scheme because
the risk is shared.
>> There is uncertainty in regards to the amount the
landlord will ultimately receive, particularly for a
smaller, new or in-line tenant or those retailers
operating an online channel. This has the potential to
impact the valuation of the property as future income
streams may be unknown.
>> Where turnover rent is calculated as a percentage
amount in excess of base rent, it benefits both
parties by sharing the risk and the upside between
landlord and tenant. This would be especially
beneficial in the case of a new scheme and/or
start-up business as the rent would drop to the
agreed base rent if trading conditions are poor,
but rise when conditions are good. For example,
when a project is being leased during a low point
in the rental cycle, a developer/owner may choose
a turnover rent if they believe the increase in store
turnover will outperform any increase in base rent.
>> It provides flexibility for both the tenant and landlord
and enables the landlord to have a vested interest in
the performance of the business, potentially enabling
the landlord to take action early if the business is not
performing. For example, if a tenant fails to generate
a pre-agreed level of turnover, the landlord will have
sufficient grounds to find an alternative retailer.
>> By helping to encourage the landlord to take more
interest in the tenant’s business, it may incentivise
their actions in maintaining the tenancy because it
can potentially increase the rent received.
>> This would be especially true in the case of shopping
centres, in that the landlord’s capital expenditure
towards improving footfall and tenant/occupational mix
is likely to produce higher turnover, therefore higher
rent profits than a traditional rent review arrangement.
3
>> There may be difficulty/challenges in obtaining accurate
turnover information from the tenant’s business, which
could potentially impact the ability to recover rent.
>> The landlord also shares the loss in revenue in times
of economic distress or even temporary closure for
example for refurbishment/fit-out.
>> In some cases, it may provide the landlord an
opportunity to terminate the leasing arrangement if the
tenant’s business is not performing to expectations.
>> If the lease terms are set up to accommodate a pure
turnover rent, there is higher risk to the landlord of not
receiving any rent if the tenant’s business does not
perform to the expectation set.
>> Anchors are usually secured in newly developed or
refurbished centres and in some instances they may
not pay any turnover rent for the first few years as sale
performance grows.
>> For anchors, in times of low turnover - particularly in
times of economic downturn or disturbance to trading
- the amount they pay falls. This adds to the clear
disparity between what anchors pay and small retailers
pay and can cause issues within the centre.
>> When a developer/owner opens a store in a new
location, the risk to the retailer can be artificial,
especially where the fit-out contribution is also paid for
by the landlord. This calls into question the financial
sustainability of new schemes where the risk is borne
almost entirely by the owner. Pure turnover rents used
in this instance create no genuine business alignment.
CEE Research & Forecast Report | Q2 2015 | Retail | Colliers International
Existing Business Model
Shopping Centre Revenue: Who Pays?
140
Warsaw
Prague
Belgrade
Tallinn
Riga
40
Kyiv
60
Budapest
80
Bucharest
100
St Petersburg
120
Vilnius
For owners/investors, the income generated by a shopping centre
is derived primarily from a percentage of retail sales generated
160
Bratislava
This gives major occupiers greater negotiating power than a
smaller, in-line business. However, when an anchor performs
well, the landlord shares in the profits and is likely to have greater
interest in the centre as a whole, which benefits all occupiers.
180
Sofia
In CEE the gap between anchor and in-line tenant prime rents
varies considerably by market as shown in Figure 2. The
reasoning behind this relates to the role the anchor plays in the
performance of the whole shopping centre by drawing customers
in and increasing footfall. So while an anchor on a turnover rent
could be perceived as being unfair to an in-line tenant paying a
higher base rent, the commonly held practice is that not having an
anchor would reduce footfall and, in turn, the overall performance
and attractiveness of the centre.
Anchor Rent
In-line Rent
Zagreb
It is common for anchors to pay no base rent and operate under
a pure turnover rent arrangement. One rationale behind turnover
rent is that it aligns the rent payable with the tenant’s actual
ability to pay. However, this rationale can be viewed as flawed
by some because it is seen as only benefiting the anchor/major
tenants (those on turnover rent), and some could afford to pay a
higher turnover percentage. In-line tenants are still required to
pay a higher base rent, regardless of performance and economic
conditions.
200
Moscow
In a traditional shopping centre format, smaller tenants, commonly
referred to as in-line tenants in central and eastern Europe
(CEE), typically pay a higher base rent than larger anchor (or
major) tenants.
Fig. 2: Traditional Shopping Centre Rents:
In-line vs. Anchor Rents [Q1 2015]
20
0
Source: Colliers International
by anchor tenants, plus the rent paid by smaller in-line tenants. In
CEE, anchor tenants typically occupy around 40% of the space in
a traditional shopping centre format, which can rise to 70% when
including hypermarkets/supermarkets and cinemas - as shown in
Table 1. So, if anchor tenants start to derive a greater proportion
of sales online, or it becomes increasingly difficult to track what
is online vs in-store, there is a clear risk to the sustainability of
shopping centre revenue/profitability and the turnover rent model.
Table 1: Traditional Shopping Centre Formats in CEE
Traditional Shopping Centre Format in CEE*
Type Of Schemes
Leasable Area
Typical Number
of Anchors
Typical Anchor Ratio**
(% of leasable Area by Anchor)
Type Of Anchors
80,000 m² and above
8+
*40-70%
Supermarket/Hypermarket, Discount, Fashion Apparel,
Home Improvement/DIY, Full-line Department Store,
Entertainment, Fitness
Large
40,000 – 79,999 m²
8+
*40-70%
Supermarket/Hypermarket, Discount, Fashion Apparel,
Home Improvement/DIY, Full-line Department Store,
Entertainment, Fitness
Medium
20,000 – 39,999 m²
5+
*40-60%
Supermarket/Hypermarket, Discount, Fashion Apparel,
Home Improvement/DIY
Small
5,000 – 19,999 m²
2+
*30-50%
Supermarket/Hypermarket, Home Improvement/DIY
Very Small
Less than 5,000 m²
N/A
n/a
Very Large
Supermarket and/or Convenience-based
Source: Colliers International
Th e International Council of Shopping Centres, ICSC, has created a general framework for categorising European shopping centres by gross leasable area as shown in Table 1
above. To extend this framework, we have collected and analysed more than 1,500 shopping centre records for CEE and defined the type of anchors and typical percentage of
leasable area taken by the anchor as shown in Table 1.
*Th e typical anchor ratio can vary depending on whether it is a city centre or regional location, and by market, with extremes across the CEE region showing an anchor ratio
ranging from as low as 30% to as high as 80%. The anchor percentage increases significantly when accounting for hypermarkets, supermarkets and/or cinema/leisure operations
in addition to key anchor retailers.
4
CEE Research & Forecast Report | Q2 2015 | Retail | Colliers International
How is Online Retail Changing the
Future of Turnover Rent Leases?
At its core, omnichannel means that there are a number of stages in
the buying process that may or may not require physically entering a
store. These stages are Discovery, Trial & Test, Purchase, Delivery/
Pick-up, and Return. This means that in-store and online sales are
increasingly codependent as sales come from the store, the web or a
combination of the two.
Fig. 3: Shopping Journey: In-Store vs Online
Search
Test & Trial
Purchase
Delivery
Return
used in-store, across several global locations. Their analysis shows
that the discovery and trial/test parts of the process are the most
popular uses of a mobile phone in-store. Only around half as much
mobile usage is spent on purchasing activity in-store, than during the
discovery and trial/test stage.
Culturally there are significant differences as to how mobile phones
are used in-store. Although this is often a result of mobile and
internet penetration, some countries show much heavier usage of
mobiles than others. For example, in South Korea, China, Turkey,
Brazil and Mexico mobile use is significantly higher than in the UK,
Poland, Italy, Russia or Sweden. The US sits squarely in the middle.
At the low end of the table are various emerging markets including
Ukraine, India and Indonesia.
Fig. 5: People that Buy Products In-Store
Using a Mobile [%; 2014]
Single-/
Multichannel
50%
40%
Omnichannel
30%
Omnichannel
According to research by AT Kearney, the approximate split (based
on US activity) of online vs in-store sales is:
>> Around 35% of shopping takes place in-store without an online
component to the buyer’s journey.
>> Only 10% of shopping takes place online without an in-store
component.
>> But 55% of shopping has some combination of in-store and online.
Other research produced by Gfk highlights how mobile phones are
Ukraine
India
South Africa
Belgium
Sweden
Canada
France
Japan
Russia
Germany
UK
Poland
Italy
Australia
Spain
Argentina
USA
Mexico
Brazil
0
Turkey
Source: A.T. Kearney/ Colliers International
South Korea
In-store
China
10%
On-line
Indonesia
20%
Single-/
Multichannel
Source: GfK/ Colliers International
This highlights the difficulty in defining which of the five stages of
the purchasing process can reasonably be attributed to in-store
vs online. With this in mind, there are clearly large implications for
landlords using turnover rents, if:
a) 10% of retail sales will eventually be ‘lost’ to on-line retailing, and,
more importantly:
b) There is ambiguity over 55% of retail sales when defining what
can be attributed to online vs in-store.
Additionally, stores set up as show rooming are another example
where a customer browses in-store but then goes home to purchase
online – how do we attribute these sales?
Fig. 4: Source of Retail Transaction Activity
[2014]
At the moment there’s no known consistent tracking/legislation on
goods purchased online, but collected or returned in-store as part of
the turnover calculation for rent. We understand that major European
retail landlords are currently reviewing how to manage the potential
impact of omnichannel on their rent roll and lease agreements.
35%
Retail Store
Only
55%
Online &
Retail Store
Source: A.T. Kearney/ Colliers International
5
10%
Online
Only
We also gather that some major landlords are looking to adopt
operational models currently in use in Australia whereby major
tenants (supermarkets, department stores and discount department
stores) have a separate lease provision to capture online sales
that are fulfilled in-store. This is calculated as a separate turnover
provision for retailers that use physical stores as a distribution point
for online orders. Often there is one calculation for turnover rent
based on in-store sales, and a separate formula for online sales. This
is still very much in its infancy in the Australian market and primarily
limited to supermarkets. The model is yet to evolve to include
specialty store leases.
CEE Research & Forecast Report | Q2 2015 | Retail | Colliers International
Fig. 6: What Shoppers Do via Mobile Phones In-Store
[%; 2014]
South Korea
Discovery
40%
Fig. 7: People that Compare Prices In-Store
Using a Mobile [%; 2014]
China
Turkey
40%
Brazil
Mexico
Argentina
Contact
Friend and Family
for Advice
Compare
Prices
USA
Spain
Russia
Trial and Test
36%
Italy
Australia
29%
Sweden
28%
Japan
Poland
Take
Pictures
of the Product
Take
Pictures
of an Ad
Scan
Barcodes/
QR Codes
Purchase
UK
Germany
France
Indonesia
Canada
Belgium
23%
22%
Buy
via
App
India
Buy
via
Website
Source: GfK/ Colliers International
South Africa
Ukraine
0
10%
20%
30%
40%
50%
60%
Source: GfK/ Colliers International
Conclusion
Click-and-collect and other digital commerce options which
involve the physical store in the supply-chain blur the lines of
what’s included in-store turnover, as do those retailers that allow
online purchases to be returned in-store. Orders are being placed
online but collected in-store and orders placed in-store using the
technology kiosk or smartphone applications are later collected
in-store or delivered to the customer. There is a clear risk to
the use of turnover rents given the ambiguity of how turnover is
calculated.
Ultimately, a landlord will seek to maximise the turnover rent
paid and minimise the risk position. For that reason, landlords
will eventually want online sales included in the calculation of
turnover rents. Retailers will want the opposite, to retain sales
revenue, but it is in their best interest to maintain their brand
presence in as many successful retail locations as possible.
As a result, there will need to be a shift in the omnichannel
environment, away from sales metrics that look only at the retail
channel and not how the customer got to the checkout, especially
where a physical store incorporates online orders, pick-ups and
returns. As click-and-collect becomes the key operating retail
model - even for the likes of Amazon, who will require a local
retail bricks-and-mortar presence to solve their last mile logistics
cost concerns – the sooner these solutions are reached, the
better for the market as a whole. Longer term, leases will need
to provide for clearer provisions in regards to what is included in
the calculation of turnover rent.
6
However, much of this onus will remain on the parties involved in
the negotiation until some standard can be formulated regarding
online retail trading as part of a bricks-and-mortar operation. In
the meantime, we may see an increase in the popularity of base
rents, which can provide greater certainty for both landlord and
tenants.
Many retailers have only just commenced the journey of creating
an omnichannel business model, which will be critical to their
business by matching growing consumer expectations in terms
of price, service, accessibility and convenience. As the share
of online retail as a proportion of total retail sales continues to
grow (projections range from 25%-40% in future), getting this
operating /lease model right is going to be interesting.
For some time, large shopping centres have been considered
as highly attractive and defensive assets so finding a way to
enable rents to be paid on the basis of performance will be
crucial. Afterall, the sales success of the retailer, the shopping
centre location as well as the footfall and tenant mix are integral
mechanisms to drive sales, turnover rent and help protect and
grow income. Alternatively, will owners of urban distribution
points be able to use turnover rents as provisions in their lease
agreements, to help drive values?
Time will tell. Watch this omnichannel space (as it will be).
CEE Research & Forecast Report | Q2 2015 | Retail | Colliers International
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67 countries
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6 continents
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EMEA: 108
Primary Authors:
Damian Harrington
Regional Director Research | EE
+358 400 907 972
[email protected]
Katy Dean
Senior Regional Research Analyst | EE
Contributors:
Sean Briggs
Managing Director Retail Agency| EE
+48 223 317 825
[email protected]
Juliane Priesemeister
Regional Research Analyst | EE
+420 226 537 618
[email protected]
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billion in
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and staff
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